This week we gauge the views of other professions on opportunities for external investment. Nick Shepherd weighs the pros and cons of restructuring partnerships as corporate vehicles, while Jeremy Boadle outlines how third-party finance helped his firm grow


Now that the Legal Services Bill has received royal assent, there is considerable interest among law firms about the possibilities of restructuring their partnerships as corporate vehicles, listed or private, into which external capital can be introduced.



Professional services firms in the property industry have not been subject to the same legislative and regulatory yoke as those in the legal and, to some extent, accounting sectors. The property advisory industry consists of partnerships, LLPs, private companies, UK-listed companies and internationally listed companies, as well as a few hybrids. So there is plenty of evidence to support, or counter, some of the excitement engendered by the Legal Services Act.



There are two reasons for professional firms to source external capital. First, a group of owners may want to cash in the business and realise its value, rather than risk leaving it to their successors to do the same.



Second, raising capital can be viewed as a means of financing expansion of the business and increasing its rate of growth and/or profitability.



It is the latter which is worth testing a little further.



UK clearing banks are keen to lend to professional firms - whether partnerships, LLPs or otherwise - for business expansion, provided those businesses are well managed and profitable, and the investment proposition is sound. So domestic or even European expansion per se does not need to trigger a capitalisation of the business. Bank finance is generally cheaper and it is definitely more flexible.



As for the notion that incorporation and external investors somehow mean that growth and profitability will be increased, the evidence from the property profession does not support cause and effect in this way. Partnerships such as Knight Frank, King Sturge, GVA Grimley (which recently took on external investment) and Drivers Jonas have grown revenue and profits at least as quickly as the very best of the corporate firms and, significantly, more than one or two of the major listed advisers.



Some of the listed firms raise the subject of share options as tools in their armouries for attracting, rewarding and retaining staff. But in reality share prices of the listed firms performed very poorly from launch until the start of the last upward market cycle in 2005. DTZ launched at 170p a share, a price not exceeded for ten years. And while the share price grew strongly in the 18 months leading up to 2007, over the past year shares have fallen from a high of about 800p to a low of about 200p. I would argue strongly that focusing staff's attention on the daily performance of their share options, over which they have little control, is neither motivating nor productive.



Incorporation combined with external shareholders can lead to serious potential tensions, which may not be envisaged at the outset by firms taking this route.



A single large investor, whether a private equity house, investment bank or venture capitalist, in a professional service business is a big risk. Investors of this sort do not accept the kind of consensual approach to business that most partnerships adopt. And why should they?



Major external investors may want a priority return on their capital, relative to the existing owners, and they will certainly want to exercise a high level of influence. The Daily Telegraph of 8 February reported that an external investor with a 17% shareholding in Management Consultancy Group had requisitioned an extraordinary general meeting to replace the chief executive of the firm. The board said it was resolutely opposed to the proposal. The scene is therefore set for a confrontation between different types of shareholder, and between one powerful shareholder and the management of the business.



Strangely, a passive investor is no better, constituting possibly the worst of all worlds for professional service firms, and can soon seem to be an entity getting a financial return for no apparent input. This is especially the case when those partners or owners who received their share of the investor's capital are long gone, leaving the remainder wondering exactly why they are 'giving away' a large proportion of their profits to a party which adds nothing to the business.



But this is all a bit one-sided - there clearly are circumstances where the introduction of external capital is of real benefit. I can think of four principal occasions when this might be so.



The first is where a firm has significant expansion plans, especially in an international context, where a UK clearing bank loan may be less appropriate and where returns on investment are very hard to predict. In the property world the big international players - JLL, CBRE, Cushman & Wakefield, Savills and DTZ - are all corporate entities at international level. While my firm has happily financed our expansion into Germany, France and Spain, we could not contemplate tackling India, China or the US as a partnership.



The second is where the existing management team has run out of steam, the business is lacking direction or drive, and there are no obvious successors within the business. This is a parlous state of affairs for the business anyway, but the injection of new money and new management could make all the difference.



Third, there might be a justifiable case where the investor's reach and/or scale substantially adds to the reach or scale of the investee firm. This happened in the late 1990s when the US firm of Cushman & Wakefield invested in Healey & Baker, a partnership with offices in the UK and parts of Europe. While rebranding took a little while to sort out, there is no doubt that Cushmans gave H&B a very different platform on which to base their business.



Lastly, where a partnership has ambitions to acquire a sizeable corporate entity, there may well be a case for both incorporation and introduction of external capital. However, I would always want to explore the bank finance options thoroughly before bringing in an external equity investor.



When law firms examine the options fully, there will not be a great rush towards bringing in third-party investors. Partnership and LLPs without external investors are just as capable of financing growth in a UK and European context. There is plenty of bank finance available without exposing the business to the influence and possible tensions arising from external investors.



But for those firms looking to establish major international platforms, it may well be that external investors can be found to bring more than just cash to the business: expertise, contacts, investment rigour and so on are more valuable contributions than just money.



For any others looking to capitalise their businesses, I suspect the real reason will be a much simpler one.



Nick Shepherd is managing partner of property consultants Drivers Jonas